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State aid investigation announced into drax’s conversion of a unit from coal to biomass

On 5th January 2016, the European Commission opened a State aid investigation into the UK’s plans to support Drax in converting its power plant from coal to biomass. The test for whether a measure is a breach of State aid rules is set out in Article 107 TFEU and in broad terms provides that there must be:

Aid granted by a Member State or through State resources in any form

Which distorts or threatens to distort competition

Which favours certain undertakings or the production of goods; and

Which affects trade between Member States.

The European Commission reports (in press release IP/16/2) that it was concerned as to whether the proposed funding in relation to Drax’s power plant is limited to what is necessary and does not amount to overcompensation. The European Commission announced that its preliminary view is that the project is likely to give rise to overcompensation because the Government’s estimates of the rate of the return of the project are too conservative.

The project is designed to work in the following way. One of the units of the power plant is to be converted to operate only on biomass, rather than coal. A strike price is to be set, which is a fixed price for the electricity generated. The possible State aid arises because if the average wholesale price of electricity falls below the strike price, Drax would be paid the shortfall by the Government. The particular concern of the European Commission is that the actual rate of return for the power plant may be higher than that estimated.

In addition, the European Commission is concerned as to the possibility of distorting competition within the Internal Market, as the source of the biomass is wood pellets which are to be sourced from the USA and South America. As the volume of wood pellets is likely to be substantial in relation to the global market for wood pellets (2.4 million tonnes annually, and the project is to run until 2027), the Commission notes its concern that “on balance the measure’s negative effects on competition outweigh its positive effect on achieving EU 2020 targets for renewable energy”.

Drax has recently noted that the European Commission’s report notes that the strike price for the biomass was set at GBP100 per kilowatt per hour, in line with market expectations.

As with similar measures (such as RWE’s similar project), Drax’s project was notified to the European Commission, in April 2015. In December 2015 the European Commission approved similar plans for RWE to convert its Lynemouth plant, although Drax has noted that the technical and economic assumptions of the two projects differed. At the time it was widely thought that the approval of RWE’s project was encouraging for Drax’s project.

The European Commission notes that interested parties will have an opportunity to express their views before the investigation is concluded.